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Sunday, June 26, 2011
INVESTOR EDUCATION SERIES : THE ART OF INVESTING = IN TROUBLED TIMES = WARREN BUFFET REVISITED = GREAT TIMES TO COME NEXT
THE ART OF INVESTING
IN TROUBLED TIMES
The stock Markets get into an intricate loop when there are Political, economic or social uncertainties that start troubling the country – over a long period of one to two years.
When the UPA Government started their second innings, the track record looked good. India was looking for a five year period of sustained economic progress. There were talks of overtaking China and US in definable periods. Stock markets were reflecting this buoyant mood by moving up steadily, right from the beginning of 2009. The FIIs were investing in India on a big scale – spurred by the progress being made by the Indian companies and the investing atmosphere being created by the various ministries of UPA II Government. Huge but achievable targets were set for various Ministers – and there seemed to be serious working in that direction.
But, then came the scams, scandals and a serious, non-seriousness in dealing with economic problems like inflation, land acquisition etc.
Scams of never-before-size and never-before-brazenness struck the nation. We will not go into their details here. But, our reputation has taken a severe beating in the International arena. Our position in the corruption Index is becoming more glaring than ever before.
The ineffective tackling of persistent Inflation – food and non food inflation both – is casting shadows on Growth. The causes of this Inflation are more structural and logistical in nature, and not due to excessive money supply in the market. These causes are to be tackled by the Governments at centre and states, through Policy prescriptions and quick actions - of short term and long term nature; RBI monetary Policy, applied several times in the year, is therefore beginning to hurt growth, without in any way, reducing Inflation.
Raising the prices of petrol, diesel, LPG, Kerosene etc at this point of time – is not adding to any hope that inflation will come down soon.
Government’s bold policies in Budgets in respect of Power, Infrastructure, steel and oil and Gas sectors etc looked so good – but, these are not translating into tangible results due to many Policy deficiencies. Land procurement / acquisition for Infra structure projects, power projects and steel projects is coming to a stand still for various reasons . There is no visible Political consensus on this matter but a lot of Politicking is visible.
If Government can come up with a good, strong Lok Pal Bill and with measures for effective land procurement / acquisition – this can be the biggest feather in the cap of this government and of India. Let the corrupt face the Lok Pal music. Corruption in India has to come down drastically from its current monumental proportions.
Transparency in Government functioning has to become the order of the day. If that happens, India’s reputation will go up by several notches in the International arena, even if the Lok Pal unearths a few more scams, if the Government remains firmly against corruption.
None of these problems are difficult to tackle. If sufficient statesmanship is displayed – we can hope that in a year’s time, all this dust will settle and economic progress will gear up well again.
If we can recall the genesis of the turbulence in the Market – it started almost with the scams. So, it can end with the end of scams.
But, if our economy and stock markets continue to be in troubled and uncertain times for a year’s time or more from now – what should the investors be doing in the stock markets?
When the mind is drifting and uncertain – read the Gita, says Adi Sankaracharya. Very truly, Gita contains a number of policy prescriptions for various problems of Life. But, Lord Krishna did not deal with Stock Market problems, which was a much later invention of human greed.
Like in the case of any other scientific analysis, here also there are certain broad Policy prescriptions, from none other than the Oracle of Omaha – Warren Buffet. I take them as coming from Gita. Or almost like that :
Here are a few relevant quotes from Warren Buffet:
ØLook at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it.
ØYou only have to do a very few things right in your life so long as you don’t do too many things wrong.
ØOnly buy something that you'd be perfectly happy to hold if the market shut down for 10 years.
ØI buy on the assumption that they could close the market the next day and not reopen it for five years.
ØThe investor of today does not profit from yesterday’s growth.
ØFourth Law of Motion: For investors as a whole, returns decrease as motion increases.
ØIf a business does well, the stock eventually follows.
We are in troubled times. Market are moving up or down even by a 500 points on a single day. How much LOW will the market move down over a year, is difficult to predict. If there are more scams, more inflation, more inept handling of development issues, well, market can nosedive by a 2000 points. Or, if there is more efficient and far sighted handling – markets can move up by a 2000 points. So it is + or – 2000 points for the next one year. I do hope, that natural forces will force down solutions to all problems in the mean time. It is happening even now. So, treat the market forces as your friend and ride on them.
Troubled Times are times of opportunity (for long term Investors) :
What will happen in a 3 year time horizon? Many Indian companies are on clear, unassailable Growth Path. Some of them have grown over 100 percent or more in the past 3 years – and many of them will grow 100 percent or more, in the next 3 years. Their profits can grow much more than 100 percent. If market comes out of troubled times within 1-2 years, which it will, these Growth companies will reward their Investors with over 100 percent capital appreciation. So, treat the troubled times as your opportunity to Invest in companies with the maximum potential for next 3 years. So, this can be a good time for investing!
Do a Few Things Right :
You don’t need to study all companies and pick out the best of them. You do not need to pick out all the best companies. Pick out sectors which will definitely prosper in next three years. Like Banking, Pharma and IT.
While Banking is largely Indian, Pharma and IT are producing great Multi-nationals. There are huge growth prospects in all these three sectors for the next decade. You may have a different preference based on your study. Oil and gas is another great sector. Reliance and Cairn may look a little sluggish now – but, have Potential to double their size in 3 years. Sectors like Auto have been recording robust growth in recent years. Within Auto sector, companies which are multinationals like TATA Motors can see greater growth.
Within each sector – You must choose companies with the fastest growth rates in last 3 years. It does not matter whether they are the biggest, or medium sized or small companies. Look at their forecasts for future Growth. Look at their expansion plans, M&A Plans etc. So, 3 factors are to be studied minimum – (1) Growth sectors (2) past Growth rates in companies in these sectors (3) Plans for future Growth for these companies. Now, make your selection. This is how you can DO A FEW THINGS RIGHT.
INVEST FOR LONG TERM :
Warren’s Investment philosophy is strictly for long term. If you make your BUY today – assume that market will shut down for next 5 years and reopen after that. So, no transactions in your stock for next 5 years! In the mean time, your company is making great strides and good profits – just as you expected. Are you comfortable with these assumptions? If you are - Invest now.
It is very difficult to fail – if you select well like this, for long term Investment.
How big should be your Portfolio?
Warren does not prefer big diversification – to spread risks. If you study well and select well – there are very little risks. Limit your Portfolio to about 10 companies maximum.
INVEST; DON’T TRADE :
Warren Buffet may have done trading also at some point of time. But, his firm Policy prescription is – No one gains more in frequent trading, compared to the gains in long term Investing.
The more the frequency of trading, the lesser the returns – is Warren’s strong feeling.
As an Investor, you need patience, not anxiety. As earlier said – Invest for long term. You don’t need to panic because of the movements in daily charts of market prices – so long as your company is doing well.
This means that – Study the quarterly and annual results of your Portfolio companies very well; but not their daily charts of market prices. If their performance results are very good, don’t bother about market fluctuations. If performance results are bad – then, think of some shuffling. Warren says – if the business does well, the stock will do well eventually.
DON’T SELL OR BUY IN PANIC :
If prices are falling, don’t panic. What matters is – whether the company is doing well. Likewise – if prices are rising, unsupported by any improvement in results – don’t go merely by any market buz, Tit Bits, HOT TIPS etc – and don’t buy on their basis. Solid Fundamentals must be the basis for your buying. If you haven’t seen and studied the fundamentals of a company – it is not worth buying.
YOU DON’T NEED TO BE AN EXPERT :
Like any other subject, stock market Buying also needs some knowledge of stocks, stock markets, economy and related aspects. There are many good Books on the subject. Buy one and read. Understand the Basics. Know some of the most important terms – like EPS, price earnings ratio, price to book value ratio and so on. There are some good articles on these subjects in this Blog itself. Go through them to understand them. I list below the minimum factors you must study in respect of the companies you want to invest in.
SALES & PROFITS : It is not difficult to spot companies that are growing in terms of both sales and profits in the last 3 years. Select such companies. If only sales are growing and not profits, or, if only profits are growing but not sales, avoid such companies.
EPS Growth : Amongst the above - Some companies have great EPS right now. But, their EPS is stagnating for some reasons (like bulging equity) and not Growing for the last several quarters. Avoid companies that are not growing in terms of EPS. Some companies may have smaller EPS, but the EPS may be growing at a fast pace. They are preferable.
PRICE-EARNINGS RATIO : Among the above companies, study their PE Ratios. Select companies with moderate PE Ratios. If PE Ratios are too high, scope for future appreciation is generally LOW. If PE Ratio is too LOW, the market perception about them is dismal. Some times they tend to stagnate at same levels for several years. Some Managements have low reputation and their companies tend to have Low PE Ratios. Read the article on these topics in this Blog for further knowledge.
There are many other ratios like Price to Book Value Ratio etc. But, this Blog considers the above four parameters ,viz., Sales Growth, Profits Growth, EPS Growth, PE Ratio – as the more important ones, indicative of the Potential of the company. If these are all consistently growing well in last 3 years, the company can be generally considered as a growth company. Beyond these – you need to look at Management reputation, Company’s future plans for expansion etc and if these are sound – select them for investment.
WHEN WILL YOU SELL :
Warren says – our ideal holding period is FOREVER. If your company is giving you good capital appreciation and good dividends – keep on holding it. If the company is getting into bad times for any reason – like government Policy (like land acquisition), excessive competition(Like Telecom), Saturation in demand (say, sugar) etc – analyze the causes – and get out of it , if there is no solution to these problems in sight for a long time. But, if there is a solution (like Bharti expanding into other countries), one may continue to hold.
Remember – you don’t love a company – you love the capital appreciation and dividends that you get. This is the general rule.
You are in the stock Market to earn well and profit. This is Rule No.1. Not to lose. If you are losing, remind yourself of Rule No.1 constantly. This is Rule.2.
In troubled times – review your investments. Treat the time as opportunity for fresh investments. If your companies are doing well, don’t bother about troubled times. Don’t bother about market prices. Don’t panic.
Fantastic times are round the corner. These act in cycles always. So, Great times are bound to come after troubled times.